Yesterday, I was in the middle of “intense” negotiations regarding a fantasy football trade and I was quickly reminded about a Warren Buffett quote that is often repeated. It was from the Berkshire Hathaway 2008 Annual Letter,
Long ago, Ben Graham taught me that “Price is what you pay; value is what you get.” Whether we’re talking about socks or stocks.”
In this particular situation we were talking about a player that was drafted in the first round who hasn’t panned out but the other player wanted me to pay because of that fact. Yes, my rejection email included the quote.
Sunk Costs are a Fact of Life
It seems that the sunk cost fallacy is almost innate in most humans. As discussed on the Wikipedia entry,
Behavioral economics recognizes that sunk costs often affect economic decisions due to loss aversion: the price paid becomes a benchmark for the value, whereas the price paid should be irrelevant. This is considered irrational behavior (as rationality is defined by classical economics). Economic experiments have shown that the sunk cost fallacy and loss aversion are common; hence economic rationality—as assumed by much of economics—is limited. This has enormous implications for finance, economics, and securities markets in particular.
or simply put by freakanomics
Sunk cost is about the past – it’s the time or money or sweat equity you’ve put into a job or relationship or a project, and which makes quitting hard
Lifehacker had a few easy examples to understand
- “I might as well keep eating because I already bought the food.”
- “I might as well keep watching this terrible movie because I’ve watched an hour of it already.”
- “I might as well keep going to a bad/useless class that I paid for.”
“I might as well continue dating someone bad for me because I’ve already invested so much in them.”
Maybe it goes back to our distant ancestors needing to follow through with tasks that seemed hopeless…mother nature almost telling us that we need optimism to survive? maybe it is a cultural personal responsibility issue?
I am not particularly good at recognizing that I am in a sunk cost fallacy when it comes to an investment of either time or money. I am pretty sure it has to do with the optimism I feel once I have actually decided to undertake a project (versus my natural pessimism prior to actually accepting the responsibility).
I doubt I am alone, but I would love to hear of other’s examples.